What is the correlation coefficient?
In this series, we have analyzed BP’s (BP) approval of its Mad Dog Phase 2 project, stock movements, dividend yield, and short interest. We also looked at its institutional holdings, implied volatility, and valuations. In this part, we’ll test the correlation between BP stock and crude oil prices.
The correlation coefficient shows the relationship between two variables. A correlation coefficient value of 0 to 1 shows a positive correlation, 0 indicates no correlation, and -1 to 0 shows an inverse correlation. We have considered the past 12 months’ price history of BP and WTI (West Texas Intermediate).
BP and WTI
Integrated energy companies like BP are affected to some degree by the volatility in crude oil prices. BP’s correlation coefficient versus WTI stands at 0.65, which shows a strong positive correlation. It also means that on average, 65% of the movement in BP stock can be explained by changes in WTI prices.
However, the strength of the correlation with oil is lower for BP peer ExxonMobil (XOM). The correlation of XOM versus WTI stands at 0.55. However, integrated energy players Statoil (STO) and Suncor Energy (SU) show a higher correlation with WTI at 0.73 and 0.69, respectively.
On the other hand, standalone downstream companies show a feeble correlation with crude oil prices. A case in point is Tesoro Corporation (TSO), a refiner that has a 0.26 correlation with WTI.
BP’s correlation with the broader market and natural gas
BP’s (BP) correlation to the broader market (SPY) is also high, standing at 66%, because the market is an indicator of the broad economy. So, when the economy grows, the energy industry also grows. However, BP’s stock correlation to natural gas is weak, accounting for 47% of its total production.
If you’re looking for exposure to the overall energy sector, you can consider the iShares US Oil & Gas Exploration & Production ETF (IEO). IEO has ~77% exposure to the oil and gas exploration sector, ~20% exposure to the refining sector, and ~3% exposure to the oil and gas storage and transportation sector.